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401k Hardship Loans – A double edged sword

401k Hardship Loan
401k Hardship loan provisions - Pros & Cons

Some 401(k) plans allow participants to take loans, and others do not. It is quite a controversial subject, with some arguing participants should be empowered to access their savings, while others prefer a more paternalistic approach to help ensure retirement dollars are there for retirement. Regardless of your perspective on this topic, there are certainly pros and cons to each side.

The pandemic economy of last year showed the perils of offering loans. According to a recent survey by Kiplinger’s Personal Finance, almost a third of respondents took a loan from their retirement plans last year. This was in response to a provision in the CARES act that allowed savers under the age of 59 ½ to draw up to $100,000 from retirement accounts or borrow up to $100,000 from corporate retirement accounts without penalty.

Of those taking loans, almost 60% borrowed more than $50,000. Many respondents said they now will have to work longer than previously planned to make up for the negative financial impact the pandemic has had on their retirement assets.

Respondents indicated they needed these funds for home repairs, auto repairs, tuition, and to help family members. All are worthy, and in many cases necessary, causes. However, you can’t borrow for retirement, and money spent today will not be there in the future, nor will any compounding returns on those assets.

While paying back 401(k) loans may seem like a good deal, since you are paying yourself the interest on the loan, 2020 shows the perils of taking money out of your plan, even temporarily. While the economy suffered during the pandemic, the stock market posted a strong year. The overall stock market was up 18.4% last year. Money taken out of stocks for loans did not enjoy these gains. What’s worse, if the money came out at the bottom of the stock market, in March, the opportunity cost could be almost 70%.

Things happen in life, and participants may need access to their money to avoid disaster, but tapping retirement account assets can be hazardous to your long-term wealth.